6
MERCHANDISING CHAPTER ACTIVITIES
SUGGESTED ANSWERS TO DISCUSSION QUESTIONS
1. The operating cycle of a business is the sequence of transactions by which the company normally
generates its revenue and its cash receipts from customers. In a merchandising company, this cycle
includes: (1) purchasing merchandise; (2) selling merchandise, often on account; and (3) collecting
accounts receivable from customers.
2. Both wholesalers and retailers are merchandising companies and, therefore, buy their inventory in a
ready-to-sell condition. Wholesalers, however, buy large quantities of merchandise directly from
manufacturers and then sell this merchandise in smaller quantities to many different retailers.
Wholesalers usually operate from a central location and do not sell directly to the final consumer.
Retailers, in contrast, buy from wholesalers and then resell the merchandise to the final consumer.
In summary, wholesalers emphasize distribution of the product to the places (retailers) where it is
needed. Retailers specialize in meeting the needs of their local customers.
3. The cost of goods sold appears in the income statement of any business that sells merchandise, but not
in the income statement of a business that sells only services. The cost of goods sold represents the
original cost to the seller of the merchandise it sells.
4. Green Bay Company is not necessarily more profitable than New England Company. Profitability is
measured by net income, not by gross profit. For a merchandising company (or manufacturer) to earn a
net income, its gross profit must exceed its expenses (including nonoperating items). Green Bays gross
profit exceeds that of New England by $70,000. However, if Green Bays operating expenses (and
nonoperating items) exceed those of New England by more than $70,000, New England is the more
profitable company.
5. Revenue from sales amounts to $1,070,000 (gross profit, $432,000, plus cost of goods sold, $638,000).
Net income is equal to $42,000 (gross profit, $432,000, minus expenses, $390,000).
6. General ledger accounts show the total amounts of various assets, liabilities, revenue, and expenses.
While these total amounts are used in financial statements, company personnel need more detailed
information about the items comprising these totals. This detail is provided in subsidiary ledgers.
Subsidiary ledgers are needed to show the amounts receivable from individual customers, the amounts
owed to individual creditors, and the quantities and costs of the specific products in inventory.
7. The debit and credit amounts of $420 should be posted both to the Inventory and to the Accounts
Payable controlling accounts in the general ledger. In addition, the $420 debit should be posted to the
Boss LoadMaster II Shock Absorbers account in the inventory subsidiary ledger, along with the
number of units purchased (12) and the unit cost ($35). The $420 credit also should be posted to the
Boss Automotive account in the accounts payable subsidiary ledger.
8. Reconciling a subsidiary ledger means determining that the sum of the account balances in the
subsidiary ledger agrees with the balance in the controlling account in the general ledger. The basic
purpose of this procedure is to detect certain types of posting errors or mathematical errors in the
computation of account balances.
9. Inventory shrinkage refers to the decrease (shrinkage) in inventory resulting from such factors as theft,
breakage, and spoilage. In a company using a perpetual inventory system, shrinkage is measured and
accounted for by taking a physical inventory and adjusting the accounting records to reflect the actual
quantities on hand.
10. In a perpetual inventory system, ledger accounts for inventory and the cost of goods sold are kept
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1
perpetually up-to-date. The Inventory account is debited whenever goods are purchased. When sales
occur, Cost of Goods Sold is debited and Inventory is credited for the cost of the merchandise sold. An
inventory subsidiary ledger is maintained showing the cost and quantity of every type of product in the
inventory.
In a periodic inventory system, up-to-date records are not maintained either for inventory or for the
cost of goods sold. The beginning and ending inventory are determined by a physical count. Purchases
are recorded in a Purchases account, and no entries are made to record the cost of individual sales
transactions. Rather, the cost of goods sold is determined by a computation made at the end of the year
(beginning inventory, plus purchases, minus ending inventory).
11. (a) $51,500; (b) $65,000; (c) $49,800; (d) $61,600.
12. The statement is correct. A perpetual inventory system requires an entry updating the inventory records
as each item of merchandise is sold. In the days of manual accounting systems, only businesses that
sold a small number of high-cost items could use a perpetual system. For example, perpetual inventory
systems were used in auto dealerships and jewelry stores, but not in supermarkets.
Today, point-of-sale terminals have made perpetual inventory systems available to almost every type
of business. These terminals read identification codes attached to each item of merchandise; the
computer then looks up both the sales price and the cost of the merchandise in computer-based files
and records the sale instantly.
13. a. A general journal is capable of recording any type of business transaction. However, recording
transactions in this type of journal is a relatively slow and cumbersome process. In addition, the
person maintaining the journal must have sufficient background in accounting to correctly interpret
all types of accounting transactions. Also, because the journal is used to record all types of
transactions, it must remain in the accounting department, rather than being located in the field
where a specific type of transaction occurs.
b. A special journal is an accounting record or device that is designed for recording one specific type
of transaction in a highly efficient manner. As the journal is used only in recording one type of
transaction, the person maintaining the journal usually does not require an extensive background in
accounting. Also, the journal may be located in the field where the transactions occur.
Special journals are used to record transactions that occur frequently. A general journal still is used
for recording unusual transactions that do not fit the format of any special journal.
14. A balance arises in the Purchase Discounts Lost account when the company fails to take advantage of
an available cash discount and, therefore, pays more than the net cost of the merchandise.
In most well-managed companies, management has a policy of taking all available cash discounts.
Therefore, the balance in the Purchase Discounts Lost account represents a cost arising from failure to
adhere to this policy. If this balance becomes significant, management will take corrective action to
assure that the company does take advantage of future discount opportunities.
15. The freight charges should not be charged to delivery expense. Delivery expense is a selling expense,
matched with (offset against) the sales revenue of the current period. Freight charges on inbound
shipments are part of the cost of acquiring the inventory, not an expense of the current period.
Transportation charges on inbound shipments should be added to the cost of the purchased
merchandise or, as a matter of practical convenience, included in the cost of goods sold during
the period.
16. Yes; Outback should take advantage of 4/10, n/60 cash discounts even if it must borrow the money to
do so at an annual rate of 13%. Paying 50 days earlier and taking the discount saves 4%.
This is equivalent to an investment with a rate of return of approximately 29% (4% 36550 = 29.2%).
17. The financial statements would not include sales tax expense because sales taxes are not an expense of
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2
the business entity. Rather, these taxes are collected from the customer and forwarded by the business
to the state government. Until the taxes have been sent to the governmental authorities, a liability for
sales taxes payable does appear in the balance sheet of the business. (The entry to record the collection
of sales taxes consists of a debit to Cash or Accounts Receivable and a credit to Sales Taxes Payable.)
18. To sellers, the cost of offering cash discounts is the resulting reduction in revenue. This cost is
measured by initially recording the account receivable from the customer at the full invoice price and
then recording any discounts taken by customers in a separate account (Sales Discounts).
Buyers, however, incur a cost when discounts are lost, not when they are taken. Therefore, buyers
design their accounting systems to measure any discounts lost. This is accomplished by initially
recording the account payable to the supplier at net costthat is, net of any allowable cash discounts.
This practice means that any discounts lost must be recorded in a separate expense account.
19. The increase in net sales is a good sign, but it does not necessarily mean the companys marketing
strategies have been successful. This increase might have stemmed entirely from the opening of new
stores, or from inflation. Also, an increase in net sales does not mean that gross profit has increased.
Perhaps this increase in sales stemmed from selling more low-margin merchandise, in which case,
gross profit might even have declined. In that case this would have been an unsuccessful marketing
strategy.
An increase in net sales normally is viewed as a positive change. But to evaluate a specific companys
performance, it is necessary to determine the reasons for this change, and the overall financial impact.
20. Gross profit margin, also called gross profit rate, is gross profit expressed as a percentage of net sales
revenue. It may be computed for the company as a whole (the overall gross profit margin), for specific
sales departments, and for individual products. Management often may improve the companys overall
profit margin by raising sales prices or by concentrating sales efforts on products with higher margins.
In a manufacturing company, management often is able to increase margins by reducing the cost of
manufacturing the merchandise that the company sells.
SOLUTIONS TO EXERCISES
Ex. 62
Transaction
a.
b.
c.
d.
e.
Income Statement
Net
Cost of
All Other = Net
Sales
Goods Sold
Expenses
Income
NE
I
NE
NE
NE
NE
NE
I
NE
I
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NE
NE
NE
NE
NE
NE
I
D
NE
D
Balance Sheet
Assets = Liabilities + Owners
Equity
I
I
D
NE
D
I
NE
NE
NE
NE
NE
I
D
NE
D
3
Ex. 63
Subsidiary
Ledger
Inv
AP
AP
Inv
AR
Inv
AR
AP
Inv
Inv
Inv
AR
Transaction
a.
b.
c.
d.
e.
f.
g.
h.
Effect upon Subsidiary
Account Balance
Increase
Increase
Decrease
Decrease
Increase
Decrease
Decrease
Decrease
Decrease
Increase
Increase
Decrease
Ex. 64
a.
Net sales
$26,000,000
Cost of goods sold
?
=
Gross profit
$15,000,000
Cost of goods sold = $11,000,000
b.
c.
Beginning inventory + Purchases
Cost of goods sold
=
Ending inventory
$6,450,000
$9,500,000
$11,000,000 (from part a)
$4,950,000
The entry to record inventory shrinkage at the end of the year increased the Cost of Goods Sold
account and reduced its Merchandise Inventory account by $10,000. Thus, immediately prior to
recording inventory shrinkage, the Cost of Goods Sold account had a debit balance of $10,990,000
($11,000,000 computed in part a minus $10,000), whereas the Merchandise Inventory account had a
debit balance of $4,960,000 ($4,950,000 computed in part b plus $10,000,000).
Ex. 65
a. The change in net sales provides an overall measure of the effectiveness of the company in
generating revenue. A major limitation of this measure is that sales may have changed largely
because of the opening of new stores or the closing of unprofitable ones. Thus, an increase in
net sales is not always good, and a decrease is not always bad.
Users of financial statements often compute changes in gross profit rates from one period to
the next. Increasing margins often mean that a companys net sales growth is outpacing its
growth in the cost of goods sold. This often is the result of successful marketing strategies. A
declining gross profit rate, on the other hand, may indicate weakening customer demand or
intensified price competition.
Percentage changes in comparable store sales represent the increase or decrease in net sales
of the same stores from one period to the next. By factoring out the effects of opening new
stores (and/or closing existing stores), this statistic provides a better measure of marketing
strategy effectiveness and revenue growth.
b. Wal-Mart reported a significant increase in its overall sales growth of 16%, but only a 5%
increase in comparable store sales. The disparity between these two statistics may suggest
that Wal-Marts revenue growth was in large part attributed to new stores. The stability of
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4
Wal-Marts gross profit rate implies that the company did not face weakening demand or
intensified price competition. Kmarts performance was far less impressive. The statistics
reported in the text were released less than a year prior to the company declaring bankruptcy.
Kmarts total sales grew by only 3%, and its comparable store sales grew by only 1%. The
9% decline in the companys gross profit rate suggests that it faced weakening demand and
increased price competition.
Ex. 66
a. The reason why an actual physical count is likely to indicate a smaller inventory than does
the perpetual inventory records is inventory shrinkagethe normal loss of inventory through
theft, breakage, and spoilage.
b. Cost of Goods Sold ...............................................................................
Inventory ...................................................................................
To reduce inventory to the quantities reflected in the year-end
physical count.
4,000
4,000
c. Both portions of the preceding entry should be posted to the general ledger. In addition, the
reduction in inventory should be posted to the inventory ledger accounts in which the
shortages were determined to exist.
Ex. 67
a. The amounts of beginning and ending inventory were determined by taking complete physical
inventories at (or near) the ends of year 1 and year 2. Taking a complete physical inventory
means physically counting the number of units of each product on hand and then determining
the cost of this inventory by reference to per-unit purchase costs. (The inventory at the end of
year 1 serves as the beginning inventory for year 2.)
b. Computation of the cost of goods sold during year 2:
Inventory (December 31, year 1) .............................................................................
Add: Purchases.........................................................................................................
Cost of goods available for sale during year 2.........................................................
Less: Inventory (December 31, year 2)....................................................................
Cost of goods sold....................................................................................................
c. 2
Dec. Year 31 Cost of Goods Sold..............................................................
Inventory (Dec. 31, year 1)......................................
Purchases .................................................................
To close those temporary accounts that contribute to the
cost of goods sold for the year.
31 Inventory (Dec. 31, year 2)..................................................
Cost of Goods Sold..................................................
To remove from the Cost of Goods Sold account the cost
of merchandise still on hand at year-end.
d.
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2,800
30,200
33,000
3,000
$ 30,000
$
33,000
2,800
30,200
3,000
3,000
BOSTON BAIT SHOP
Partial Income Statement
5
For the Year Ended December 31, Year 2
Net sales ...................................................................................................................
Less: Cost of goods sold ..........................................................................................
Gross profit ..............................................................................................................
$ 79,600
30,000
$ 49,600
e. Because the business is small, management probably has decided that the benefits of
maintaining a perpetual inventory system are not worth the cost. Furthermore, determining a
cost of goods sold figure at the point of sale for live bait (e.g., a dozen minnows) may be
difficult, if not impossible.
Ex. 68
a.
b.
c.
d.
e.
Net
Sales
240,000
480,000
630,000
810,000
531,000
Beginning
Inventory
76,000
72,000
207,000
261,000
156,000
Net
Purchases
104,000
272,000
400,500
450,000
393,000
Ending
Inventory
35,200
80,000
166,500
135,000
153,000
Cost of
Goods
Sold
144,800
264,000
441,000
576,000
396,000
Gross
Profit
95,200
216,000
189,000
234,000
135,000
Expenses
72,000
196,000
148,500
270,000
150,000
Net
Income
or (Loss)
23,200
20,000
40,500
(36,000)
(15,000)
Ex. 610 a. Entries in the accounts of Golf World:
Accounts Receivable (Mulligans) .........................................................
Sales ..........................................................................................
Sold merchandise on account to Mulligans.
10,000
Cost of Goods Sold ...............................................................................
Inventory ...................................................................................
To recognize cost of goods sold relating to sale to Mulligans.
6,500
Cash.......................................................................................................
Sales Discounts .....................................................................................
Accounts Receivable (Mulligans) .............................................
To record collection of account receivable from Mulligans, less 1%
cash discount.
9,900
100
10,000
6,500
10,000
b. Entries in the accounts of Mulligans:
Inventory ...............................................................................................
Accounts Payable (Golf World)................................................
Purchased merchandise from Golf World (net cost, $10,000 99% =
$9,900).
9,900
Accounts Payable (Golf World)............................................................
Cash...........................................................................................
Paid account payable to Golf World within the discount period.
9,900
9,900
9,900
c. Entry by Mulligans if discount not taken:
Accounts Payable (Golf World)............................................................
Purchase Discounts Lost .......................................................................
Cash...........................................................................................
To record payment of account payable to Golf World and loss of
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9,900
100
10,000
6
purchase discount due to failure to pay within discount period.
Ex. 612 a.
Cash.......................................................................................................
Sales ..........................................................................................
To record sale of telescope to Central State University for cash.
117,000
Cost of Goods Sold ...............................................................................
Inventory ...................................................................................
To record cost of telescope sold to Central State University.
90,000
Inventory ...............................................................................................
Accounts Payable (Lunar Optics) .............................................
To record purchase of merchandise on account from Lunar Optics,
net 30 days.
50,000
117,000
90,000
50,000
b. Computation of inventory at January 7:
Inventory at Dec. 31...........................................................................
Deduct: Cost of goods sold ................................................................
Add: Cost of merchandise purchased.................................................
Inventory at Jan. 7..............................................................................
$250,000
(90,000)
50,000
$210,000
c. Cash.......................................................................................................
Sales ..........................................................................................
To record sale of telescope to Central State University for cash.
117,000
Purchases...............................................................................................
Accounts Payable (Lunar Optics) .............................................
To record purchase of merchandise on account from Lunar Optics.
Terms, net 30 days.
50,000
117,000
50,000
d. Cost of goods sold:
Inventory, Jan. 1.................................................................................
Purchases............................................................................................
Cost of goods available for sale .........................................................
Less: Inventory, Jan. 7 (per part b) ....................................................
Cost of goods sold...........................................................................
$250,000
50,000
$300,000
210,000
$ 90,000
e. The company would probably use a perpetual inventory system because it sells merchandise
with a high unit cost and has a relatively small number of sales transactions.
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7
20 Minutes, Medium
PROBLEM 63
KNAUSS SUPERMARKETS
20012002
a. 1. Change in net sales........................................................
6% (1)
2. Change in net sales per square foot............................... (1%) (3)
3. Change in comparable store sales ................................. (1.8%) (5)
(1)
(2)
(3)
(4)
(5)
(6)
20002001
8% (2)
(2.7%) (4)
(3.5%) (6)
($5,495 $5,194) $5,184 = 6%
($5,184 $4,800) $4,800 = 8%
[($5,495 11.9) ($5,184 11.1)] ($5,184 11.1) = (1%)
[($5,184 11.1) ($4,800 10.0)] ($4,800 10.0) = (2.7%)
($10.8 $11.0) $11.0 = (1.8%)
($11.0 $11.4) $11.4 = (3.5%)
b. While Knauss has increased its overall revenue from sales, several of the statistics indicate problems.
Both sales per square foot of selling space and comparable store sales have declined for the last two
years. This indicates a downward trend in sales at existing stores. It is apparent that the increase in
overall net sales must have resulted from adding new stores. As a result, management should reevaluate
its marketing strategies.
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8
40 Minutes, Strong
PROBLEM 66
CPI
Parts a, c, g, and h follow; parts b, d, e, and f are on the next page.
a. The operating cycle of a merchandising company consists of purchasing merchandise, selling that
merchandise to customers (often on account), and collecting the sales proceeds from these customers.
The assets and liabilities involved in this cycle include cash, accounts receivable, inventory, and
accounts payable.
c. In the January 2 entry, the $24,250 debit to the Inventory controlling account should be allocated
amongand posted tothe appropriate product accounts in the inventory subsidiary ledger. The
information posted should include the cost and quantities of each type of merchandise purchased. In
addition, the credit portion of this entry should be posted to the Sharp account in CPIs accounts payable
subsidiary ledger.
In the first entry on January 6, the debit to the Accounts Receivable controlling account should be
posted to the Pace Corporation account in CPIs accounts receivable ledger.
In the final entry, the credit to the Inventory controlling account should be allocated among the thirty
products sold and posted to the appropriate accounts in the inventory ledger.
g. CPI probably would use a perpetual inventory system. The items in its inventory have a high per-unit
cost. Therefore, management will want to know the costs of the individual products included in specific
sales transactions, and also will want to keep track of the items in stock. The company also has a
computer-based accounting system, a full-time accountant, and a low volume of transactions. This
combination of factors eliminates the potential difficulties of maintaining a perpetual system.
h. Computation of profit margin on January 6 sales transaction:
Gross profit = Sales price - Cost of goods sold
= $10,000 $6,100
= $3,900
Gross profit margin = Dollar gross profit Sales revenue
= $3,900 $10,000
= 39%
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9
PROBLEM 66
CPI (concluded)
b.
General Journal
2002
Jan 2 Inventory
Accounts Payable (Sharp)
Purchased merchandise on account; terms, 3/10, n/60.
Net cost, $25,000, less 3%.
6 Accounts Receivable (Pace Corporation)
Sales
Sale on account; terms, 5/10, n/90.
6 Cost of Goods Sold
Inventory
To record the cost of merchandise sold to Pace Corporation.
d.
24250
10000
10000
6100
6100
Computation of inventory at January 6:
Inventory at Dec. 31, 2001
Add: Merchandise purchased on Jan. 2
Less: Cost of goods sold on Jan. 6
Inventory at close of business on Jan. 6
e.
Journal entries assuming use of a periodic system:
2002
Jan 2 Purchases
Accounts Payable (Sharp)
Purchased merchandise on account; terms, 3/10, n/60.
Net cost, $25,000, less 3%.
6 Accounts Receivable (Pace Corporation)
Sales
Sale on account; terms, 5/10, n/90.
f.
24250
Computation of cost of goods sold:
Inventory (Dec. 31, 2001)
Add: Purchases
Cost of goods available for sale
Less: Inventory (Jan. 6per part d )
Cost of goods sold
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$50
2
(
$51
0
4
6
8
0
2
1
1
0
5
0
5
0
0
0)
0
24250
24250
10000
10000
$50
2
$52
51
$
0
4
4
8
6
0
2
2
1
1
0
5
5
5
0
0
0
0
0
0
10
35 Minutes, Medium
CASE 61
SELECTING AN INVENTORY SYSTEM
a. The Frontier Shop would probably use a periodic inventory system. Several factors support this
conclusion. First, this is a small business that does not have a computerized accounting system. An
antique cash register is not an electronic device that can automatically determine the cost of items sold.
Thus, the only dollar amount recorded at the time of sale is the sales revenue. Also, the fact that the
accounting records are maintained by a bookkeeper who comes in at the end of the month suggests a
periodic inventory system, rather than a continuous updating of the inventory account. Finally, this
business does not appear to need an inventory subsidiary ledger, as the owner is likely to be very
knowledgeable as to how quickly various items are selling and the quantity of each item currently in
stock.
In summary, The Frontier Shop has no need for a perpetual inventory system and does not have the
resources to maintain one.
b. Although Allisters Corner is a small business with a manual accounting system, it probably would
maintain a perpetual inventory system. The primary reason for using a perpetual system is the high unit
cost of the paintings comprising the companys inventory. For purposes of internal control, management
would want the accounting records to indicate the quantity, cost, and identity of the paintings in stock.
Also, the low volume of sales transactionsthree or four sales each weekmakes the record-keeping
burden of maintaining a perpetual system of virtually no consequence.
c. The publicly owned publishing company probably would use a perpetual inventory system for several
reasons. First, in order to service its customers, the company needs to have the necessary quantities of
specific textbooks at the appropriate warehouses and at the proper time. The need to carefully control
the quantity and location of inventory on hand suggests the need for an inventory subsidiary ledger.
Next, as a publicly owned corporation, this company must issue quarterly financial statements. The
perpetual inventory system is better suited to the issuance of quarterly (or monthly) financial statements
than is a periodic system.
d. The facts suggest that Toys-4-You uses a perpetual inventory system. Point-of-sale terminals can
maintain a perpetual inventory system at little or no incremental cost. In fact, this is the principal reason
for using point-of-sale terminals. Also, the fact that headquarters is provided with information about the
weekly profitability of each store suggests the use of an accounting system that is capable of measuring
the cost of goods sold prior to year-end.
Finally, the size of Toys-4-You86 retail storessuggests a publicly owned corporation with quarterly
reporting obligations.
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CASE 61
SELECTING AN INVENTORY SYSTEM
(concluded)
e. An ice cream truck would use a periodic inventory system. Several factors support this conclusion.
First, it would be impractical for an ice cream truck to utilize a perpetual system, as this would involve
separately recording the cost of each ice cream bar and popsicle sold. Next, inventory is not material in
this type of business. In the course of a month, the quantity of ice cream products purchased will be very
close to the quantity sold; very little inventory remains on hand. Finally, a person operating an
independent ice cream truck probably has no external reporting responsibilities other than the
preparation of annual income tax returns. It is unlikely that the operators of such businesses would
maintain sophisticated accounting systems.
f.
Several factors suggest that TransComm would use a perpetual inventory system. For one, management
needs to know precisely how many units are on hand at any time in order to know whether the company
can fill the large sales orders it receives from customers. Next, the fact that the company sells only one
product makes the operation of a perpetual inventory system relatively simple; the accountants must
only keep track of the number of units purchased and sold. Finally, TransComms accounting records
are maintained on commercial accounting software. Virtually all software programs used in accounting
for inventories are based upon perpetual inventory systems.
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12